Following encouraging comments from Apple’s leading VCESL laser supplier, Lumentum (LITE), on their FQ4 conference call this morning, we have become incrementally more upbeat on Apple’s next iPhone launch, and specifically the number of phones that will have advanced 3D sensing capabilities enabling augmented reality applications. We believe Lumentum is one of two to three company’s supplying Apple with VCSEL laser diodes, which is a key technology that adds advanced 3D sensing capabilities. Given Lumentum’s comments around $200m in bookings for the rest of CY17 (up from $5m in FQ4), as well as demand trends throughout 2018, we have become incrementally upbeat on the impact Apple’s next iPhone launch will have on the company and on the augmented reality industry. In total, we expect 55m 3D sensing enabled iPhone’s in 2017, going to 160m in 2018.

What They Said. In the June-qtr, Lumentum recorded $5M in 3D sensing revenue, but more impressively they received over $200M in bookings in the quarter, which they believe will all be shipped by CY17. We believe the majority, if not they entire order, is all being shipped to Apple. We believe these comments further confirms 3D sensing (and in-turn AR applications) will be a focus feature in the next iPhone. In addition, Lumentum highlighted they have increased VCSEL laser capacity by 25 – 30% from what they anticipated only one quarter ago. Given the uptick in Management’s demand forecast, we believe advanced 3D sensing capabilities will be integrated in more iPhones than what most were previously expecting.

We also want to highlight Lumunetum acknowledged they are working with multiple customers, but one customer (aka Apple) is accounting for most of the demand. We believe Lumentum and others supplying VCSEL lasers are supply constraint and shipping everything they can manufacture. We believe Apple has secured a high percentage of all VCSEL lasers created, which we view as a large competitive advantage and will make Apple a leading AR player in the smartphone space.

September iPhone Launch Update. We believe Apple’s next iPhone launch remains on track to be released in September. We anticipate the company will ship 133M units in the 2H of CY17. Assuming Lumentum controls ~50% of the total consumer VSCEL laser market, the majority of all VCSEL lasers produced are going to Apple, and the total VCSEL laser cost (high and low-end) is ~$6 – 7, we believe 55M new iPhones (43%) will incorporate VCSEL lasers, enabling advanced 3D sensing capabilities. Given Lumentum’s comments about demand for VCSEL lasers growing in the coming quarters, as well as well into 2018, we believe this technology will be embedded in a higher-percentage of phones in CY18. Given all VCSEL suppliers are capacity constraint, we believe ~40% of iPhones shipped in 1H of CY18 will include VCSEL lasers, but as VCSEL laser manufacturing capacity is added, we believe ~85% of the new iPhones shipped in 2H of CY18 will incorporate 3D sensing capabilities. Based on these assumptions, we believe Apple will ship a total of 239M iPhones in CY18, of which 160M or 67% will include 3D sensing.

3D Sensing Financial Impact For Apple (Higher Margins). We also believe the iPhone enabling 3D sensing will be positive to the company’s bottom line. We anticipate the high-end iPhone SKU will incorporate a low-end and high-end VCSEL laser. The low-end will be front facing, while the high-end laser will be on the back side of the device. We believe the low-end lasers will cost $2 – $3, while the high-end lasers will range from $3 – $4. When factoring in manufacturing costs the total bill of materials could cost ~$20. We believe the high-end iPhone will market for ~$950, which the company will have added ~$100 to the price to incorporate 3D sensing. This nets in an 80% gross margin up sell to the AR rich iPhone, compared to Apple’s overall gross margin of ~40%. In addition, given Lumentum’s comments about increasing laser capacity more than what they expected one quarter ago, we believe these lasers may be embedded in more that just the high-end SKU.

3 Key Takeaways. Following, these positive data points, we have three key takeaways regarding the upcoming iPhone launch. 1) The next iPhone launch remains on track to be released in September. 2) Advanced 3D sensing technologies are likely going to be integrated in more phones that previously anticipated. 3) This, coupled with the release of Apple’s ARkit in June at WWDC, is evidence that Apple continues to bet big on AR.